Tuesday, 2 June 2015

Pssst! Do you want another US$4 billion?

Deregulation of the airline industry is one of the success stories of economics from a number of perspectives (as I wrote earlier here). It's not often that the politicians take the economists' advice, and rarer still when you have well dug-in interests with a previously protected patch to defend, but deregulation of the airline business not only got adopted in the US, and subsequently internationally to a greater or lesser degree, but has worked out exactly as the economists predicted: competition increased, prices fell, choice expanded, more people could afford to fly, and consumers benefitted hugely.

Oddly enough, until very recently nobody had put a figure on the size of the consumer benefits. Step forward Clifford Winston of the Brookings Institution and Jia Yan of Washington State University, who've done precisely that. Here's the Brookings announcement about their results, and if you want the whole nine yards the announcement has links to a longer media summary and to their academic journal article in the American Economic Journal: Economic Policy.

They principally looked at the impact of the "open skies agreements" that the US negotiated with other countries over 2005-09. Their model enabled them to identify the (substantial) declines in price and increase in choice that followed deregulation: it also let them  do the counterfactual "what if" exercise of running the model as if the deregulation had never happened. In that case (I'm quoting from p396 of the journal article)
eliminating the open skies agreements on US international routes that have been signed between 2005 and 2009 would initially raise fares in all segments, with the greatest effect, 50 percent, on business and first-class fares [it was 21% on full price economy and 13% on discount economy]; reduce passenger demand in all segments and market demand [by 13% overall]; reduce the number of flights; and increase the number of carriers per route. Travelers would lose $3 billion annually, nearly $2 billion from higher fares and $1 billion from fewer flights, indicating that they gained substantially from the open skies agreements that had been negotiated during that period. As noted, we are understating the total gains because we cannot measure the additional long-run effects that would increase the initial gains.
On top of the US$3 billion of gains from the 2005-09 agreements, they also found that consumers benefitted by close to a billion dollars more from agreements negotiated before 2000. And they also extended their model to the routes where the US has yet to negotiate open skies agreements, and found that deregulation and competition would yield a further US$4 billion of consumer benefit. And there are still further gains (actual and potential) left uncounted, including the benefits from domestic deregulation in the US and elsewhere, and the benefits of open skies agreements on routes not involving the US.

The numbers show the shabbiness of airline protectionism: pre deregulation, and to this day in some countries, governments had been giving a tiny group of 'flag carriers' - sometimes just a single operator in a country - free licence to rip off their own citizens. It's both stupid and perverse (as I've previously said, here or here).

You'd  think that by now the rort would be too anachronistic to survive:  the process for all the world is as if a medieval monarch were giving his gracious consent to the trade in beaver pelts. These days, it's who is allowed to fly into or out of Shanghai or Manila, but in essence it's no different to Charles I (as I've just read in Peter Ackroyd's Civil War) deciding who should be allowed to make pens, playing cards or spectacles.

Unfortunately governments still seem unwilling to leave the airline market alone, with the latest bunfight being US airlines' allegation that some Middle Eastern airlines are being given unfair competition-distorting subsidies and the US carriers' attempt to have open skies access for Qatar and the UAE rolled back (here's the Economist's article about the issues). The multi-billion dollar consumer benefits of further liberalisation are still going a-begging.


  1. Does this saving include the cost of correcting the carbon emissions from air travel? And other costs?

  2. No. But I think it's highly unlikely that any associated costs would be anywhere near the total benefits, going (for example) by the costs quoted by local carriers in NZ to offset carbon emissions.
    And are you seriously arguing that a gross consumer rip-off is worth it because of the environmental benefits?